- The sharp declines in various market indexes are leading folks to proclaim a bear market.
- History shows several instances of sharp market declines followed by periods of robust gains.
- The question of whether we are currently experiencing a bear market or a correction is one of semantics.
Pour a 16% S&P 500 decline, a 12% NASDAQ drop, and a 14% MSCI World Index fall – all over the course of two and a half months – into a glass. What do you see?
We see a glass half full—likely nothing more than a correction temporarily halting the market's upward trend. Our more pessimistic friends can't see past a half empty glass etched with dancing bears:
Alan Abelson, Barron's
What Could Cage the Bear
Roben Farzad, Benjamin Levisohn, and Ben Steverman, with Maggie Gilmour, BusinessWeek
Beware Market Rally . . . It Could Be a False Dawn
Tony Jackson, Financial Times
No Green Light for Stocks, Fed Eyed
With many folks writing and talking as if we are already in a bear market, we wonder: Are we?
Sharp, short-lived drops in major market indexes in the magnitude of 10% or more in the course of a bull market are not shocking or strange. In 2006, the MSCI World fell 11.5% in 1.1 months from a prior peak before gaining 19.3% in the 6.5 months following. In 1999, the S&P 500 fell 12% in 2.9 months from a peak before climbing 18% in the 2.6 months following.
Psychology influences the way we regard the world and the world influences our psychology. When we see pessimism in the news, our immediate sentiment and views shift, influencing our actions. Our actions in the market are no exception. Psychology is often responsible for day-to-day market volatility – we see or hear news we don't like, so we sell. Or we see some positives and buy. Sometimes news affects universal psychology and the buy/sell actions are of a massive scale, leading to dramatic drops or surges in the market. Psychology can move things fast, but it can't keep them there for long. In the longer-term, fundamentals, not psychology, prevail.
In 1998, the MSCI World Index dropped from a peak in July and lost 25.1% in 2.6 months. The S&P 500 performed similarly, shedding 19% from a peak in June over 1.5 months. These dramatic declines followed negative investor sentiment and fears surrounding currency devaluations in Asia, a weak Japanese economy, the collapse of Long-Term Capital Management and sparked widespread bear market convictions. But a true bear market requires both magnitude and duration. The MSCI World surpassed its previous peak by 1.3% only 2.8 months later. The S&P was 10% higher than its previous peak four months later. When fears of a global collapse were not met with reality, psychology changed and the market bounced back to higher highs.
More often than not, when in a market downturn, the use of the term "correction" or "bear" comes down to semantics: It depends on whether the user of the term sees the market rising or declining in the months ahead. The media leads readers to believe there is more downturn ahead in order to sell the news, but psychology without fundamentals can only drive short-lived corrections, not prolonged bear markets. This is why the MSCI World in 1998 didn't sink into a bear market and why today's 20% plus drops in some overseas markets may not qualify in hindsight. To us, recent market activity is classically characteristic of a correction (psychology-based) and positive fundamentals abound, no matter how empty others proclaim the glass is. For more on why we view a bear market as unlikely, see:
- "Debt Disbelief," 01/23/2008
- "The Circle of Life,"01/18/2008
- "Market Noir," 01/10/2008
- "Terza Rima," 01/08/2008
- "Feel the Flow," 12/11/2007
Putting aside the semantics of calling the market drop a "correction" or "bear," the rebound will be quick and the bull will resume.
Sources: Thomson Financial Datastream, Global Financial Data